The clash of economic ideas perhaps has never been this bitter.
The possible breakup of the eurozone may bring Europe into
uncharted waters, but the debate over the future of the Continent
is shaped by ideas that are at least a century old: restraint in
public finance versus economic stimulus. John Maynard Keynes
giggled: “Practical men, who believe themselves to be quite exempt
from any intellectual influence, are usually the slaves of some
defunct economist.”

Economics is a pluralistic science, but there is a single key
question that still underpins the debates on economic policy: What
role, if any, should the government play in the economy? Divergent
answers to this question informed the great political experiments
of the last century, from Russian collectivization to Thatcherite
privatization in Britain.

In The Clash of Economic Ideas: The Great Policy Debates and
Experiments of the Last Hundred Years, George Mason economist
Lawrence H. White provides a masterful treatment of the struggle
between different approaches and different schools of thought. Mr.
White’s book is an uneasy cocktail: He beautifully mixes history of
economic thinking, political history and bites of biography (each
chapter begins with a vignette) that humanize economists for his
readers but also convey a sense of the real excitement that
research and policy advocacy can engender.

For Mr. White, the clash of economic ideas in the 20th century
is best epitomized by the intellectual struggle between two men:
John Maynard Keynes and Friedrich von Hayek. Mr. White’s book is
respectful and fair to Keynes, but the author — a leading
contemporary proponent of the Austrian school — is firmly set
in Hayek’s camp.

The champions of Cambridge and Vienna are aptly portrayed in the
first chapter of the book: Personal friends, they both somehow were
reluctant converts to economics. It was the great Alfred Marshall
that “pestered” Keynes, then “a clever graduate mathematics
student,” to turn professional economist, whereas Hayek read his
first economic books in the trenches of World War I but was really
turned on to the subject by Carl Menger’s Principles of
Economics.

“Keynes as a young man, and Hayek as boy, lived through a
remarkable period of economic growth that accompanied the
relatively market-friendly policies in the decades before 1914,”
Mr. White notes.

However, their responses to the collapse of the European
equilibrium with the two world wars and to the Great Depression
were polar opposites.

Keynes basically concluded that “the market economy had
collapsed on its own, had become trapped in a vicious circle, and
could not free itself.” It needed, therefore, government help. The
overall lack of demand leads to voluntary unemployment, and thus to
reduce unemployment quickly, you need specific government
policies.

Mr. White points out that Keynes’ ideas were not completely
novel when his The General Theory of Employment, Interest and
Money was published: “Many leading and non-radical economists
had proposed government spending on public works programs to
relieve the unemployment of the early Great Depression.” However,
if those proposals already were around, Keynes’ book appeared with
pitch-perfect timing: The political classes wanted a rationale for
the policies they already were implementing, and they thought it
would begood to consolidate their voting bases.

Hayek came from a different background. Whereas Keynes focused
mostly on labor markets, Hayek’s approach was “capital-based
macroeconomics.” He reflected on the changing structure of
capitalist production during the business cycle. This is why, at
the time the Depression hit, Hayek’s policy recommendation “to let
output and employment on their own as bankruptcies and layoffs
released workers and machines to find more suitable employments,
was regarded by many as a counsel of despair.”

To simplify: Keynes told political leaders they could do good
here and now; Hayek emphasized unintended consequences. Hayek’s
background lay in the so-called “socialist calculation debate.” The
debate is thoroughly described in a crystal-clear chapter of Mr.
White’s book. It began in 1920, when Austrian economist Ludwig von
Mises spotted the basic flaw of socialism: “Having abolished
markets and thereby prices for the means of production, the
directors of a socialist economy would not know how to combine
resources to produce goods economically.” In a free economy, “the
market pricing process, driven by bidding from profit-seeking
entrepreneurs, assigns prices to inputs according to their
anticipated value added in producing consumer goods.”

Prices work as a traffic light to production. They orient
choices in a realm of scarcity, allowing for resources to find
their better use. A market economy is not a static picture. It
continuously evolves and adapts, as day after day interactions
between economic players allow them to develop better and newer
knowledge about how resources could be used. Mr. White quotes
Mises: Decentralization in a world of scarcity “entails a kind of
intellectual division of labor.” Hayek departed from this to
emphasize that the market system actually is a process in which
continuous, mutual adaptation generates useful information.

In a way, it is more than a government-versus-markets debate
— it is top-down versus bottom-up.

Hayek and his followers, like Mr. White, have a fundamental
difference with Keynes and his ilk — and it is an
epistemological, not a technical, one. They would point out that we
cannot trust a single decision-maker — be it a Soviet planner
or a Western bourgeois minister — to know better than
millions of people who make market transactions.

Planners’ mistakes tend to be more expensive than individuals’
because the consequences of their failures are wider in scope.
Planners also are less resilient. Rather than alter their plans
when proved wrong, they tend to twist facts to conform to their
notions. Today’s European Union provides a good illustration of
this phenomenon.

The struggle of economic ideas is ultimately a philosophical
battle between those who think individuals are better judges of
what’s best for them and those who think the government is.

Preachers of Keynesian government intervention typically have
found a friendlier ear among the political class. But the game is
still pretty open, and perhaps the staggering failure of
governments and rulers in today’s world may strike a blow for
humility — and for Hayek.